Benz: Mike, the headline is that this great rotation actually seems to be for real, at least if you are looking at equity fund flows. What kinds of stock funds have investors been buying?

Rawson: We started the year talking about the great rotation from bonds into equities. It hasn't quite played out that way. Certainly, there have been outflows from bond funds. Active equity hasn't really been that strong, but last month active equity actually picked up quite a bit. There were strong flows to passive, as usual, but this is only the third time this year, the third month, that active had decent inflows.

Definitely, the outflows that we saw from active equity last year have totally subsided, and now we're seeing some modest inflows. So that was interesting to see.

Benz: I want to talk about what's going on with international equity, because that's been the real bright spot, but let's talk about what sorts of products people are buying within the domestic equity realm.

Rawson: They're buying large-cap funds. Large cap, obviously, is the bigger part of the market. They're also still continuing to seek out the value side--that's where the dividend-paying stocks are. Value tends to be outperforming growth in terms of flows.

On the ETF side, there was some heavy selling actually out of the small-cap funds. The Russell 2000 iShares fund actually had some heavy selling, and that's a little bit more understandable. Some small-cap indexes are up by 30%, so they have had a tremendous run. They certainly look expensive probably [compared] to large caps, which look more fairly valued. And there still continue to be positive inflows into large-cap funds.

Benz: This international flow story confounds me, because international equities have actually underperformed U.S., and we don't typically see investors responding to valuations when they decide where to allocate new dollars. They tend to respond more to performance. What do you think is going on there, Mike?

Rawson: Finally, it doesn't look like people are looking in the rearview mirror to determine where to put their money, which is a good thing. You look at Europe, valuations are more attractive. The financial situation in Europe seems to have stabilized. We don't have as many negative headlines as we did last year. So, a lot of flows are going into Europe or foreign large-blend, global allocation funds, which would have a big stake in Europe. So, the flows there are very strong. There still continue to be good flows into emerging-markets funds on the mutual fund side, not as much on the ETF side.

But I think this is a good thing, because investors tend to have what we call a home-country bias, where you tend to have most of your assets in your home country, and that's a risk, because, obviously, your livelihood is correlated to the economy in your home country. It's good to have some diversification and put some assets internationally. So, we are seeing strong flows internationally, and that's probably a good thing.

Benz: In terms of passive versus active on the international side, any trends that you've gleaned there?

Rawson: Active tends to be a little bit stronger internationally. Certainly, there's one fund that continues to attract strong flows, even though it did a soft close last month, Oakmark International. It led all international funds last year, with over $1 billion in flows despite the fact that it did close.

Benz: Obviously, an active fund there.

On the fixed-income side, we saw outflows in both taxable-bond funds and muni-bond funds. What sorts of funds do investors tend to be dumping?

Rawson: They are dumping their core bond funds on the taxable-bond fund side. PIMCO Total Return has had tremendous outflows. Anything with a lot of interest rate risk. So, TIPS funds are getting sold, the Ginnie Mae type of funds are getting sold. Investors are still cautious about the potential for interest rates to go higher in the future, so they are dumping those core bond funds.

Now, what we had been seeing earlier in the year is that people had been going into more exotic bond categories, which is bank loan, nontraditional bond, multisector, high-yield, and emerging-markets bond. For several months in a row, bank loan had been one of the strongest categories. The flows there have pulled back a little bit. They are still getting inflows, but not as strong as they were in previous months.

Benz: In terms of fund family winners, Vanguard, you said is just the top of the charts in the month of October, and it's also having a very strong year. What types of products do investors seem to be buying now?

Rawson: Last year it was Vanguard and PIMCO at the top. This year it's just Vanguard, because PIMCO has fallen off. The dominance of Vanguard is truly amazing--how strong their flows tend to be. And [investors] are often buying the core type of broad market index fund, so Vanguard Total Stock Market, Vanguard Total Bond Market, their international bond fund--those are the funds that are getting flows.

Those are also the funds that are in Vanguard's target-retirement series, their version of target date. Those target date funds have basically three to four funds in them, [including] the Total Stock Market and Total Bond Market. Those funds, every month, will get some level of inflows just from people allocating money into their savings accounts, their 401(k)s.

Benz: Into the target date [funds].

Rawson: Yes.

Benz: DFA is not at the very top of this list, but certainly very high in terms of asset gatherers for 2013. Obviously, a passive type of story there as well.

Rawson: Definitely passive. DFA has this cult-like following of these financial advisors who really believe in their approach to investing, which is sound. It's science-based. And they are very disciplined with their approach. DFA has had strong flows.

One thing that's been interesting from DFA is they've come out with a new factor that they are talking about a lot, which is their profitability factor. As we know, it tends to be very difficult to get a mechanical rules-based approach to work in growth. Growth is all about change. So it's difficult for an index or a passive investment approach to work on the growth side, but they found a way around that with this profitability screen, which basically is not looking at the valuation of the company, but just how well that company does at earning money, what kind of return on capital do they get.

So, it's a way for them to get access to something not correlated with value, but not explicitly being growth, where you are purely buying stocks that are expensive. They are not doing that. It's a new approach from DFA, and something that they have introduced in some of their funds, and I think it's pretty interesting. It's resonating well, and they are getting the message out.

Benz: You've referenced PIMCO in terms of being a laggard this year, and you also mentioned that people are dumping PIMCO Total Return Bond. What other funds are investors selling from PIMCO's lineup?

Rawson: The number of funds that have experienced outflows at PIMCO have really widened out. It's been surprising, even some of their funds-of-funds, which had historically been very strong--PIMCO All Asset and PIMCO All Asset All Authority--the flows there have weakened quite a bit. I think some people are maybe changing gears, looking to other fund providers.

It's interesting that PIMCO All Asset and [All Asset] All Authority, those funds are so large, often when they reallocate, they have an impact on the funds that they in turn hold. One of the funds that they reallocated into was [PIMCO Emerging Markets Fundamental IndexPLUS], an emerging-markets stock fund, and that's had very strong flows. I suspect, it's because PIMCO All Asset and PIMCO All Asset All Authority are reallocating more money into emerging-markets stocks, which is interesting because we see a lot of ETF investors fleeing that area. But certainly valuations look more attractive in emerging markets, and when you have lot of people pulling out, maybe it's a good time to buy.

Benz: So PIMCO, despite its efforts to make inroads in the equity space, really isn't moving the needle there in terms of flows?

Rawson: No.

Benz: Mike, I think the big-picture question when you do see these very robust equity flows, and we've had five-year runup in equity markets: Do you think investors are making wise decisions in terms of allocating new capital to equities at this point?

Rawson: Of course, it's always a very difficult decision. We've seen the equity markets run up. They appear to be fully valued. They are at fair value according to our equity analysts. The price-to-earnings ratio is kind of steep. You have to be cautious about saying, "the market is going up. Everything is great. Now, let's put more money in." I think you should try to be very disciplined.

But at the same time, what are your other options? I certainly wouldn't necessarily allocate a lot of money to a bond fund, if the potential for interest rates is to go higher. So, investors are left not with many good opportunities. You need to stick with an asset allocation plan and be disciplined about it and not decide to put money based on what has done well in the past.